By Douglas Katz – 1/19/2023
Auction.com recently released a new report on foreclosures for 2023 and there is some great information that can help investors as they plan their strategy for the year. The report was created by polling a segment of Auction.com’s clients who provided their expectations. The news is generally positive for homeowners as the findings point to fairly tepid growth in foreclosures.
While an increase is probable, the most likely outcome will be one of slightly increased foreclosure activity. This is not unexpected as the economy is still relatively good for now. These numbers could change as the true severity of any recessionary periods unfold. Even if they are worse than predicted and “on the bubble” homeowners in peril of delinquency increases, foreclosures take a long time and the activity would not hit until 2024 after the homeowners miss enough payments to be foreclosed upon by their loan servicer.
The one x-factor could be inventory. It is still exceptionally low and while improving, it is below normal markets. In a more traditional market selling is not as easy as it has been in recent years or even now. Distressed homeowners may find a lifeline in the form of motivated buyers who can take homes off of their hands before they bank begins foreclosure proceedings. Additionally, a stabilizing and even decrease in rents has accompanied increased vacancies.
The reasons for any increase in foreclosure activity point mostly to the still settling dust from the pandemic and the forbearance bonanza that came with it. Struggling homeowners were able to hit pause if they were in a difficult financial position allowing them to stave off foreclosure. That protection has all but disappeared and the homeowners who were in dire financial straights that were exacerbated by but not specifically due to the pandemic are now having to deal with the inevitable.
The one thing that this report does not capture that I feel will also add to the buyers that have overextended in the crazy seller’s market that we saw in past years. Many pushed their debt ratios to the extreme high range of the allowable debt ratio for the lender. This alone is a problem, but what many people forget is that the number used by lenders is the borrower’s gross income and this has a dramatic impact on cash flow. The actual ratio that the borrower experiences is essentially higher when the impact of taxes and other items deducted from their paycheck. Add to that inflation and possible job losses and we will see more defaults. These would not, however, be see for a while and only if initiated early 2023.
Surprisingly, the report identified government backed loans such as FHA and VA as the most likely loans types to experience foreclosure. This does make some sense as the allowable ratios for these loans are higher and other guidelines provide flexibility to help homebuyers and homeowners secure funding, even if financially challenged. This works out well a lot of the time and I have used FHA and VA uncountable times to help my buyers and past clients. With this experience, however, I know all too much that some borrowers will push the limits to realize homeownership, even at the risk of losing the home if things go south. It is important to note that VA and FHA are similar but not the same and VA loans tend to perform much better than even conventional financing. I would anticipate it would be FHA that would be the epicenter of any issues with government loans.
Geographically, the Midwest is projected to see the biggest increase. This is not surprising as this area has lagged economically behind other areas. Read any articles from the last few years and it is apparent how much the sunbelt states and markets such as Tennessee and the Carolinas have seen amazing growth. The economies in many of these states have also performed well providing stable incomes and prosperity for residents of these markets. This will equate to better stability for homeowners and a buffer against default. The areas like the Midwest with less dynamic economies will see more challenges as weaker conditions put homeowners in less tenable situations. The end result will be the higher number of delinquencies.
An interesting piece of data from the report was the number of delinquent loans that will move to foreclosure. The general expectation will be 20% or more. This, in my opinion, is the big variable. As the rest of the report shows, a lot of how much increase in foreclosures will depend on the economy and how bad a recession that we see, I say how bad because most experts have expressed an inevitability for at least some recession. If it is bad, homeowners will feel more pain and, in turn, many will fall into delinquency and possible foreclosure. Those already delinquent will likely find it hard to find footing to claw back to being current.
Regardless of the severity, it looks like we will see increased foreclosures in 2023. Again, this was expected as numbers have been artificially low for a long time due to COVID relief and other actions meant to help homeowners. That has come to an end and we are feeling it now. My feeling is that the next wave will likely hit next year as an echo to any recession or economic slowdown.